The 1997 Asian financial crisis revealed the vulnerability of Asian economies to rapid capital outflows and currency instability. In response, policymakers in East and Southeast Asia launched the Chiang Mai Initiative (CMI) in 2000 – a multilateral arrangement to provide financial support through currency swap agreements. After over a decade of evolution, the CMI has become an important part of Asia’s economic and financial landscape.

Introduction

The Chiang Mai Initiative (CMI) is a multilateral currency swap arrangement among the ten members of the Association of Southeast Asian Nations (ASEAN) plus China, Japan and South Korea. The CMI was launched in 2000, following the 1997 Asian financial crisis, to address the short-term liquidity difficulties in the region and to supplement existing international financial arrangements.

Over the years, the CMI has been significantly enhanced through a series of reforms that expanded its size, improved its operational readiness, and transformed it into a more flexible and effective framework. With total commitments exceeding USD 240 billion as of 2014, the CMI serves as an important regional financing arrangement and symbol of Asian economic cooperation.

Background on the Asian Financial Crisis

To fully appreciate the context and motivations behind the CMI, it is important to first examine the Asian financial crisis of 1997-1998. The crisis began in Thailand in July 1997 after the Thai baht came under speculative attack, forcing the government to abandon its peg to the US dollar.

Causes of the Crisis

Several factors had made Thailand and other Asian economies vulnerable to crisis:

  • Fixed exchange rates – Many Asian currencies were pegged to the US dollar, which limited monetary policy flexibility. Central banks could not adjust interest rates to control asset bubbles.
  • Large capital inflows – Capital account liberalization attracted huge capital inflows into Asian markets in the 1990s. This led to excessive lending for speculative real estate and stock investments.
  • Weak financial regulation – Lax supervision allowed banks and firms to take on large foreign currency debts and maturity mismatches.
  • Current account deficits – Many countries like Thailand relied on foreign borrowing to finance growing current account deficits. This dependence on external financing became unsustainable.

Contagion Across Asia

After the baht’s collapse, speculative attacks quickly spread across Southeast Asia as investors withdrew funds – a phenomenon known as contagion. By early 1998, currencies in Indonesia, Malaysia, the Philippines and South Korea were also forced to devalue after depleting their foreign exchange reserves.

Stock markets plunged across the region, averaging a 60% decline in dollar terms. Asset prices collapsed, banks failed, and several countries also experienced political upheaval. The IMF had to coordinate bailout packages while countries implemented painful austerity measures.

The turmoil eventually swept across the rest of Asia, hitting economies like Hong Kong, China, Singapore, Taiwan and Japan. Negative spillovers were also felt in Latin America and Eastern Europe.

Motivations for a Regional Financing Arrangement

The magnitude of the crisis exposed the lack of financial resources and swap line arrangements between countries to deal with balance of payments difficulties.

Several factors highlighted the need for an Asian-based support system:

  • Inadequate global financial safety nets – The IMF lacked resources to meet all the financing needs. There were no flexible credit lines for crisis prevention.
  • Delayed IMF assistance – Disbursement of IMF loans was viewed as slow and subject to strict conditionality.
  • Fear of loss of economic sovereignty – Asian countries wanted to avoid having to accept IMF conditions in exchange for loans.
  • Desire to manage regional interdependence – Neighboring countries are vulnerable to financial contagion. A regional pool of reserves could help contain future crises.
  • Reduced reliance on the IMF – Asia wanted to be less dependent on the IMF and increase self-help mechanisms.

Launch of the Chiang Mai Initiative

The idea for regional financing arrangement was thus borne out of the ashes of the Asian crisis. The finance ministers of ASEAN plus China, Japan and South Korea formally launched the CMI at a meeting in Chiang Mai, Thailand in May 2000.

The initial objectives were modest:

  • Expand the ASEAN Swap Arrangement into a network of bilateral swap agreements between countries.
  • Serve as a supplementary short-term liquidity facility to address balance of payments and short-term liquidity difficulties.
  • Promote regional financial cooperation through increased collaboration, surveillance, and technical assistance.

The CMI began with 16 bilateral swap arrangements totaling USD 36 billion in committed local currency reserves that could be tapped in the event of a crisis.

Evolution of the CMI Framework

Over the years, the CMI has undergone significant enhancements through a series of reform initiatives:

CMI Doubling (2005)

In May 2005, the ASEAN+3 finance ministers agreed to double the total size of the swap arrangements from USD 36 billion to USD 78 billion. New participation rules were introduced to allow countries facing balance of payment needs to quickly obtain liquidity support.

Multilateralization (2009)

A key reform came in 2009 when the bilateral swap agreements were multilateralized into a single contractual agreement, the Chiang Mai Initiative Multilateralization (CMIM). This aggregated all the bilateral commitments into a USD 120 billion reserve pool.

The CMIM has a more efficient decision-making process compared to bilateral swaps. A collective activation requires member countries holding at least 20% of total credit contributions to agree.

Expanding the CMIM (2012-2014)

Between 2012 to 2014, the total size of the CMIM was progressively expanded to USD 240 billion, with contributions split based on the relative economic strength of member countries.

The expanded resources enhanced the CMIM’s ability to deter speculative behavior and provide crisis protection. ASEAN countries could now access a greater multiplied amount of their contributions.

Introducing the CMIM Precautionary Line (2014)

In 2014, members introduced the CMIM Precautionary Line (CMIM-PL) – a crisis prevention facility without binding IMF linkages. This provides financing to countries with sound fundamentals and policies to preemptively address moderate vulnerabilities and potential capital outflows.

Key Aspects of the CMIM Framework

Membership

There are 13 members of the CMIM – the 10 ASEAN countries (Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, Philippines, Singapore, Thailand, Vietnam) plus China, Japan and South Korea.

Total Size

As of 2022, the total size of the CMIM is USD 240 billion. This pool of funds is intended for currency swaps to provide short-term foreign currency liquidity.

Contributions

Member countries contribute a certain percentage of the total fund based on their relative economic strength. The contribution split is:

  • China: 32%
  • Japan: 32%
  • South Korea: 16%
  • ASEAN-5 (Indonesia, Malaysia, Philippines, Singapore, Thailand): 16%
  • Remaining ASEAN countries: 4%

Borrowing Limits

Members can swap their local currencies to access up to the following multiplied amounts of their contribution:

  • ASEAN countries: 2.5 times
  • China, Japan, South Korea: 0.5 times

Key Facilities

The CMIM has two main facilities:

1. CMIM Stability Facility (SF)

  • For short-term liquidity support during balance of payment or short-term liquidity difficulties.
  • Access up to 2.5 times of member contribution (ASEAN) or 0.5 times (China, Japan, Korea).
  • Linked to an IMF program. Disbursements conditional upon IMF agreement and conditionality.

2. CMIM Precautionary Line (CMIM-PL)

  • A crisis prevention facility without IMF linkage.
  • For members with sound fundamentals and policies.
  • Access up to 2 times member contribution.
  • Approval based on qualification assessments.

Activation Process

To activate a swap, members representing at least 20% of total credit contributions must agree to provide support.

Swaps can be activated for a period of 6 months, renewable up to 3 times. Alternative drawings with different terms can also be mutually agreed between parties.

Decision-Making

The CMIM decision-making body is the Deputies’ Meeting, consisting of deputy finance ministers and central bank deputies from each member.

Key decisions require majority agreement, with each country having equal voting rights regardless of contribution size.

Other Features

  • No conditionality for drawing on CMIM-PL
  • Commitment charges and interest rates imposed on amounts drawn
  • Local currency provided cannot be used outside CMIM members
  • Supported by credit guarantee mechanisms

Impact and Achievements

The CMIM has become an important part of Asia’s evolving economic architecture and regional financial safety net. Key achievements include:

  • Successfully multilateralization of a network of bilateral swaps into a single cohesive framework.
  • Progressive enlargement of the available pool of reserves to over USD 200 billion.
  • Enhanced operational readiness through periodic test runs and simulations.
  • Established a crisis prevention facility in the CMIM-PL to address potential vulnerabilities preemptively.
  • Strengthened regional surveillance through the ASEAN+3 Macroeconomic Research Office (AMRO).
  • Promoted knowledge sharing and capacity building on early warning systems and crisis management.

While the CMI has not been activated since its inception, its very existence helps stabilize market confidence. The regional safety net contributes to crisis preparedness and resilience.

Limitations and Future Directions

However, the CMI still faces some limitations:

  • Total size remains small relative to potential needs in a crisis.
  • Lack of quick-disbursing emergency financing that can be readily deployed.
  • Perceived stigma in approaching CMIM for support.
  • Heavy reliance on IMF links constrains flexibility.

To address these issues, analysts propose enhancements such as:

  • Expand the resource pool and borrowing limits.
  • Introduce CMIM deferred drawings as a quick-disbursing option.
  • Increase the portion of delinked CMIM-PL financing.
  • Allow private sector involvement to expand available financing.
  • Strengthen AMRO’s ability to conduct surveillance.
  • Promote further financial integration and cooperation in the region.

Conclusion

The Chiang Mai Initiative is a groundbreaking endeavor reflecting Asia’s efforts to strengthen its economic self-reliance and resilience against financial crises. Following the tumultuous events of 1997-1998, Asian policymakers recognized the need for stronger regional mechanisms to supplement global financial safety nets.

From modest beginnings as a network of bilateral swaps, the CMI has grown into a USD 240 billion multilaterized facility providing both stabilization and crisis prevention support. The CMI also represents a symbol of Asian economic and financial cooperation.

Yet the regional financing arrangement remains a work in progress. To maximize its effectiveness, members need to implement further enhancements and reforms to the CMI’s operational capacity, resources, and IMF linkages. Nevertheless, the CMI stands as an important line of defense to safeguard macroeconomic and financial stability in Asia.